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3M Putting Emphasis Back on R&D

Increased R&D spending should lead to higher growth at 3M... at least that's the plan.

If 3M(NYSE:MMM) is going to achieve its targeted 4%-6% organic revenue growth and 9%-11% earnings-per-share growth over the next five years, the company is going to have to get back to its roots. The lab that turned out the Post-It Note, Scotch Tape, Scotchgard, and thousands of other products must come up with even more innovative solutions to grow the company.

So far, CEO Inge Thulin has put a plan in place that he thinks will allow for enough freedom to make that happen. He's planning to increase the R&D budget from 5.3% of sales in 2011 to 6% in 2017. That may not sound like a big jump, but it's significant.

In 2010, 3M spent $1.43 billion on R&D. If we assume 6% sales growth into 2017, the estimated spend that year would be $2.4 billion -- a 67% increase. This is key, because 3M incurs a baseline of spending just to keep its products on the shelves. The Post-It Note went through a huge redesign early last decade; Scotchgard was reformulated to eliminate perfluorochemicals; and hundreds of other products are reformulated or redesigned each year to meet regulatory requirements or save costs.

These projects aren't announced and don't make a line item on the income statement, but they're vital to the company's continuing operations. When R&D budgets get reduced, these projects must go on, which makes new products bear the brunt of any cuts.

Putting a renewed emphasis on growth Thulin and 3M hope that a higher level of R&D spending will translate to higher organic growth, because researchers will have more time to work on new projects instead of product updates. So where is 3M putting its focus?

Identification Tools: Whether it's RFID, passports, driver's licenses, tolling solutions, or license plate recognition, 3M has a solution. As security becomes more of a concern, and technologies allow for identification automatically, these solutions should grow -- and 3M has a broad line to offer. Look for this to be a key area of growth for the company.

Touchscreens: 3M sells components to the touchscreens you use every day, like smartphones and tablets -- but this isn't where it sees big opportunities. 3M touch displays are geared toward more commercial or industrial applications. One 46" Multi-Touch Display (seen here) lets up to 60 fingers -- that's six people, each using both hands -- collaborate on the same screen. Everything from signage to point-of-sale systems to casino gaming is a target for 3M touch screens.

Renewable energy: I, for one, can't believe that 3M hasn't put its expertise in films to work advancing what might be the single biggest opportunity on the market today: solar energy. 3M sells some products to solar module makers, but has yet to take a big step into the market. It even posted a 10% decline in renewable energy sales last quarter, while the solar industry boomed. Look for management to put serious effort into gaining a foothold in the solar industry, something 3M is perfectly positioned for if it puts its minds to it.

An increase in R&D spending could bring with it higher organic growth. Let's hope so. With just 2.1% organic local currency growth in the first half of this year, 3M has a lot of work ahead of it.